* EU executive to launch shadow bank probes
* EU to decide on capital requirements in 2015
* Draft money market law sticks with buffer proposal
By Huw Jones
LONDON, Aug 29 The European Union may apply its
mandatory capital rules for banks to a wider set of institutions
to cover risks in "dark corners" of the financial system, an EU
draft document said.
It outlines possible reforms to regulate "shadow banking",
or lightly supervised intermediaries outside mainstream banks
such as some hedge funds and broker-dealers, which generate
trillions of euros to finance the economy through securities
lending, repurchase markets and securitisations.
Extending the scope of capital rules to shadow banks would
respond to concerns among EU lawmakers that similar activities
should be regulated in the same way, the document obtained by
Reuters said. The paper has been written by the bloc's European
Commission and is due to be published on Sept. 4.
"It is not possible to discuss shadow banking without
considering the scope of application of the EU banking
prudential rules," the document said.
"These considerations respond to the overarching aim, as
reaffirmed on several occasions by the G20, of eliminating all
dark corners in the financial sector."
Mandatory capital requirements would go beyond a set of
international standards for shadow banking published on
The European Banking Authority, an EU watchdog, will be
asked to assess the size of financial entities that fall outside
the scope of current bank capital rules in order to assess which
pose systemic risks, the document added.
The EU executive will decide in 2015 if mandatory limits are
needed on banks' exposures to shadow banks, the document said.
Globally the shadow banking sector is estimated at around
$60 trillion, with $31 trillion in the EU.
The document, which may be revised before publication, says
the commission will also look at risks from "certain investment
techniques and strategies" used by mutual, exchange-traded and
"In particular, the review will examine how investment funds
use securities financing transactions. Funds will have to ensure
that use of this type of transaction does not impair their
liquidity," the document said.
The review will see if rules on what type of assets can be
used as collateral to back the transactions need tightening up.
"Particular attention will be given to funds connected by this
type of transaction to the banking system," the document said.
The commission may propose a securities law to regulate how
securities are re-lent throughout the financial system, making
it difficult to know who actually owns them.
The collapse of Lehman Brothers bank in 2008 highlighted
this problem, showing how a default of a large institution may
destabilise securities markets, the document said.
The European Commission will also publish its first draft
law on Wednesday, Sept. 4, to toughen up supervision of another
part of the shadow banking sector - money market funds (MMFs).
A copy of the draft law on MMFs obtained by Reuters shows
the EU executive sticking with its proposal to force one type of
fund to hold cash equivalent to 3 percent of the fund, a step
the industry has said will make such funds uneconomic.
The aim is to reassure investors in rocky markets and avoid
"runs" seen in the United States during the 2007-09 financial
crisis. It would apply to constant net asset value funds (CNAV)
whose share price shows little change over time, making it
harder for investors to see how the fund is performing.
If the buffer falls 10 basis points under 3 percent for a
month it "shall automatically cease to be a CNAV MMF".
There would be an "appropriate transitional period" for CNAV
funds to decide whether to build a buffer or become a net asset
value fund (NAV) whose share price reflects its performance.
The buffer rule would be reviewed three years after it comes
into force but to become law it will need approval from the
European Parliament and member states, with changes likely to be
made to the draft.
The United States, the biggest centre for MMFs, has also
proposed new rules but they don't include a planned buffer.